The Surprising – and Blatantly Obvious – Risk of the Winklevoss Bitcoin ETF

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NEW YORK (InsideBitcoins) — The upcoming bitcoin exchange-traded fund (NASDAQ: COIN) from the Winklevoss Twins has been one of the top stories in the industry for the past year, but the duo’s recent SEC filing could seem problematic to potential investors. According to their application in which they propose a sale of one million COIN shares on the NASDAQ, there will be no legal recourse for shareholders in a situation where the bitcoins backing the offering are lost or stolen.

“There is a risk that part or all of the Trust’s bitcoins could be lost, stolen or destroyed.”


If bitcoin’s short history has taught the world anything, it’s that trusting someone else to hold one’s bitcoins when they aren’t liable for any losses will usually end in disaster.

No insurance and no one to blame

Winklevoss bitcoinIn one particular section of the SEC filing for the Winklevoss Investment Trust, it is admitted that there will be nothing a shareholder can do if something happens to the bitcoins backing the ETF. A number of different risks related to the Trust are discussed in the section, Risk Factors Related to the Trust and The Shares, including problems related to a possible breach or exploitation of the Trust’s security system.

The irreversibility of bitcoin transactions is mentioned as a risk, and it is noted that this feature of bitcoin could become problematic if a mistake were made by one of the custodians of the Trust’s bitcoins:

“Although the Trust’s transfers of bitcoins will regularly be made to or from the Authorized Participant Custody Accounts, and to the Sponsor Custody Account and the Trust Expense Account (each of which are custodied and administered by the Custodian), it is possible that, through computer or human error, or through theft or criminal action, the Trust’s bitcoins could be transferred from the Trust Custody Account in incorrect amounts or to unauthorized third parties. To the extent that the Trust is unable to seek a corrective transaction with such third party or is incapable of identifying the third party which has received the Trust’s bitcoins through error or theft, the Trust will be unable to revert or otherwise recover incorrectly transferred Trust bitcoins. To the extent that the Trust is unable to seek redress for such error or theft, such loss could adversely affect an investment in the Shares.”

In other words, shareholders could be in trouble if another Mark Karpeles makes his way into the Winklevoss Investment Trust’s secure lair. A rather long description of many different accidents that could leave the Trust without any bitcoins was also included in this section of the document:

There is a risk that part or all of the Trust’s bitcoins could be lost, stolen or destroyed. The Sponsor believes that the Trust’s bitcoins held in the Trust Custody Account will be an appealing target to hackers or malware distributors seeking to destroy, damage or steal the Trust’s bitcoins. Although the Security System’s design includes various elements, such as redundancy, segregation and cold storage, to minimize the risk of loss, damage and theft, neither the Custodian nor the Sponsor can guarantee that the Security System will prevent such loss, damage or theft, whether caused intentionally, accidentally or by act of God. Access to the Trust’s bitcoins could also be restricted by natural events (such as an earthquake or flood) or human actions (such as a terrorist attack). Any of these events may adversely affect the operations of the Trust and, consequently, an investment in the Shares.

If the note about possible thefts or accidental losses leading to an adverse affect on an investment in shares of the Winklevoss Investment Trust was not enough to give people flashbacks to MtGox, the true reality of the situation was laid out rather clearly in the next section:

The Shareholders’ limited rights of legal recourse against the Trust, Trustee, Sponsor, Administrator, Trust Agency Service Provider and Custodian and the Trust’s lack of insurance protection expose the Trust and its Shareholders to the risk of loss of the Trust’s bitcoins for which no person is liable.

The Trust will not insure its bitcoins. The Custodian will maintain insurance with regard to its custodial business on such terms and conditions as it considers appropriate in connection with its custodial obligations and will be responsible for all costs, fees and expenses arising from the insurance policy or policies. The Trust will not be a beneficiary of any such insurance and does not have the ability to dictate the existence, nature or amount of coverage. Therefore, Shareholders cannot be assured that the Custodian will maintain adequate insurance or any insurance with respect to the bitcoins held by the Custodian on behalf of the Trust. Further, Shareholders’ recourse against the Trust, Custodian and Sponsor under [New York] law governing their custody operations is limited. Similarly, the Shareholders’ recourse against the Administrator and Trust Agency Service Provider for the services they provide to the Trust, including those relating to the provision of instructions relating to the movement of bitcoins, is limited. Consequently, a loss may be suffered with respect to the Trust’s bitcoins which is not covered by insurance and for which no person is liable in damages.

Trading comes with tradeoffs

As we’ve seen with the recent Bitstamp hack, trading comes with tradeoffs. Whether you’re talking about an ETF or a traditional bitcoin exchange, there’s always the chance the trusted party behind the exchange platform isn’t someone worthy of that trust.

Whether it’s malice or incompetence, keeping bitcoins in the hands of an exchange is still an issue in this young industry. Of course, the only individuals who have to depend on exchanges to hold their bitcoins are relatively-high frequency traders. If you’re someone who wants to trade bitcoin on a regular basis rather than hold or simply use it when you need it, then it’s important to remember the counterparty risk that is always at play in these sorts of situations.

Keep your private keys to yourself

One of the key aspects of bitcoin is that it allows individuals to take control over their own funds without the need to trust another third part with their money. And yet, there are still a large amount of users who are willing to trust an exchange or bitcoin bank with their coins. If you’re tired of having your money inflated, used for bailins, stolen, or censored, then keep your private keys to yourself.

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